IR35 and Off-Payroll Working Rules

IR35 is the informal name for Chapter 8 of ITEPA 2003 and the off-payroll working rules in Chapter 10. The legislation targets disguised employment — situations where a worker provides services through their own limited company (a personal service company or PSC) but the working relationship resembles employment rather than genuine self-employment.

The rules affect contractors, consultants, and freelancers who operate through an intermediary, as well as the engagers (end clients) and agencies in the supply chain. If a worker is deemed to be inside IR35, the income from that engagement is treated as employment income, and the appropriate income tax and National Insurance Contributions (NICs) must be deducted — broadly the same as if the worker were directly employed.

Determining IR35 status requires assessing the nature of the working relationship against established employment law tests: control (does the engager control how and when the work is done?), substitution (can the worker send a substitute?), and mutuality of obligation (is there an expectation of ongoing work?). Other factors include financial risk, provision of equipment, and integration into the engager's business.

Workers operating entirely outside the rules — genuinely self-employed contractors with multiple clients, genuine substitution rights, and no day-to-day control by the engager — should not be affected. However, the borderline between inside and outside can be narrow, and many engagements that appear to be outside IR35 are in fact inside when examined carefully.

Before April 2021, it was the contractor's personal service company that determined its own IR35 status for private sector engagements. This placed the compliance burden on the contractor and, in practice, many PSCs concluded they were outside IR35 when they were not.

From 6 April 2021, responsibility for determining IR35 status shifted to the engager for medium and large private sector organisations, mirroring rules already in place in the public sector since April 2017. Small companies are exempt — a small company is one that meets at least two of: turnover not more than £10.2 million, balance sheet not more than £5.1 million, and no more than 50 employees. Where the engager is small, the old rules apply and the PSC remains responsible for determining its own status.

When the engager determines that a worker is inside IR35, the fee-payer (typically the agency paying the PSC) must deduct income tax and NICs from payments, treating them as employment income. The engager cannot simply pass that determination down the chain without evidence — it must issue a Status Determination Statement.

Engagers who fail to carry out a reasonable status assessment, or who issue blanket inside-IR35 determinations without proper consideration, face the risk of HMRC transferring the PAYE liability up the chain to the engager itself.

HMRC's Check Employment Status for Tax (CEST) tool is an online questionnaire designed to help engagers and workers assess whether an engagement falls inside or outside IR35. It covers the key employment status tests and produces a determination of either employed, self-employed, or unable to determine. HMRC has committed to stand behind CEST results provided the information entered is accurate and the tool is used correctly.

However, CEST has been criticised for not giving sufficient weight to mutuality of obligation — a core employment law concept — and there have been cases where CEST gave a different result from the courts on similar facts. Engagers should not treat a CEST result as the end of the analysis, particularly for high-value or long-term engagements where the stakes are significant.

A Status Determination Statement (SDS) is a written notice that the engager must give to the worker and any agency in the chain setting out: the IR35 determination (inside or outside), and the reasons for reaching that conclusion. Without a valid SDS, the fee-payer cannot rely on the determination and the PAYE liability may fall on the engager. Workers who disagree with an SDS can use a formal disagreement process, and the engager must respond within 45 days.

HMRC has made off-payroll working a compliance priority. Where PAYE and NICs should have been deducted but were not, HMRC can assess the amount outstanding plus interest and penalties. Penalties for careless or deliberate errors can range from 15% to 100% of unpaid tax. HMRC has the power to look back up to six years (or 20 years in cases of deliberate non-compliance).

For engagers, practical compliance steps include: reviewing all contractor and agency worker relationships; using CEST supplemented by legal advice for borderline cases; issuing properly reasoned SDS notices; implementing a disagreement process; and training procurement and HR teams to recognise IR35 risk in new engagements.

For contractors, if you believe you are genuinely outside IR35, it is worth investing in a contract review by a specialist IR35 adviser and ensuring that your actual working practices — not just the written contract — reflect self-employed status. In some sectors, particularly IT, financial services, and professional services, the majority of contracts are now determined inside IR35 by engagers, making the contractor market significantly less attractive than it was pre-2021.

Where engagements are inside IR35, some PSC contractors have restructured their arrangements — operating through umbrella companies instead, or accepting PAYE employment directly. Each option has different tax, benefit, and liability implications and should be considered with advice from a tax professional.